Beijing Signals Tightening through Higher-Priced Cash Injections

(Beijing) — China’s central bank has raised interest rates on medium-term loans, a move that analysts believe signals tightening aimed at curbing debt-fueled risky investment and supporting the yuan’s value.

The People’s Bank of China (PBOC) on Tuesday increased the one-year medium-term lending facility (MLF) rate to 3.1% from 3.0% and the six-month MLF to 2.95% from 2.85%.

The move signals that “monetary policy retains a tightening tilt,” said Shen Jianguang, a Hong Kong-based economist with Mizuho Securities.

It is the first time the central bank has hiked MLF rates since it created the tool in September 2014 to manage medium-term liquidity in the banking system.

The last interest rate increase was in July 2011, when the central bank raised both the benchmark one-year lending and deposit rates by 25 percentage points.

MLF rates — applied when commercial and policy banks borrow from the central bank using securities as collateral — are now regarded by many investors as alternative benchmark rates as the PBOC seeks to influence the market through more-targeted moves rather than using across-the-board adjustments in interest rates and reserve requirement ratios — the amount of money banks must hold in reserve.

Tuesday’s cash injection, which totaled 245.5 billion yuan ($35.8 billion), was meant to help quench banks’ thirst for cash as Chinese consumers rush to withdraw money ahead of the Spring Festival, or Chinese New Year, which falls on Saturday this year.

It follows another capital infusion by the PBOC on Friday worth nearly 700 billion yuan through its newly created temporary lending facility.

But the rate hike suggests the central bank believes liquidity pressures are unlikely to continue and it may have started unwinding monetary easing in a bid to bolster the value of the yuan — which lost around 6.5% against the dollar last year — and restrict capital outflow and discourage risky investment with borrowed funds, analysts said.

“With anticipated further rate hikes in the U.S., the hike in China could help narrow the interest rate gap and reduce the pressure for further depreciation,” Shen said in a note on Tuesday.

The government’s previous stimulus policies — such as a loosening in the real estate market until the third quarter of 2016 to encourage home buying — have “triggered further leverage in the credit market,” he said.

“After seeing the collapse of the stock market, a bubble in the residential property market and panic in the bond market in the past two years, it should be clear in our view that financial risks in China have reached a stage when they must be tackled as the government’s top priority,” he added.

Rumors circulating in the market on Tuesday before the PBOC’s announcement sent prices of the most-traded central government bond futures down.

Analysts with China International Capital Corp. Ltd. said that an unexpected growth uptick in the last three months of 2016 and looming inflationary pressures created conditions and a need for authorities to withdraw monetary easing.

The MLF rate increase sent “a fairly strong signal for monetary tapering, an important step in the central bank’s expectation management,” they said in a report.

Sheng Songcheng, a senior advisor to the PBOC, said in December at the annual Caixin Summit that an interest rate hike could be considered at an appropriate time when it was needed.

China’s economic growth accelerated to a higher-than-expected 6.8% in the October-through-December period of last year from the same period in 2015, up from 6.7% in each of the previous three quarters, official data showed last week.

The producer price index, which gauges prices at the factory gate and is a leading indicator for consumer inflation, posted its fourth straight increase in December, soaring at its fastest pace in more than five years, after falling for 54 consecutive months, according to the latest government figures.

Contact reporter Fran Wang (fangwang@caixin.com)